How to Play Defense with a Good Offense
Matthew is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Given the cuts to defense spending and the wind down of the two wars on terror, the defense industry has come under a lot of pressure lately. When you look at the traditional defense contractors out there, the value investor might start to salivate given the ridiculously cheap price to earnings multiple of each company.
One look at the who’s who of defense contractors and you can see what I mean: Lockeed Martin (NYSE: LMT) trades at just 11 times earnings, General Dynamics (NYSE: GD) is at 10 times earnings, and Northrop Grumman (NYSE: NOC) trades at what appears to be a super-cheap 8 time earnings. However, given the aforementioned cuts to the defense budget and more possible cuts on the way, it’s possible these companies could end up being value traps. I want to look at two companies that have a defense contracting business that won’t get hit as hard as the big guys and have another line of business that’s just as good if not better than their defense sensitive business.
iRobot (NASDAQ: IRBT) might be known more for their handy housecleaning robots, but their robots can do more than clean the house. While they’ve sold over six million home robots, they’ve now sold over 4,000 unmanned ground vehicles that are helping our military dispose of bombs and provide intelligence. Their addressable market is about triple what they’ve already sold, according to iRobot, as they are bringing new robots on the market to meet government requirements. They have a first mover advantage and the intellectual property that is critical to their competitive position; in the US they have 92 patents to date and another 148 pending patent applications. iRobot is just in the beginning stages of their growth as they provide critical support tools to our service men and women.
AeroVironment (NASDAQ: AVAV) is probably a company not many of you have heard of but they are at the forefront of two very exciting industries -- they build unmanned aircraft systems and efficient energy systems. In the efficient energy systems, they make electronic vehicle charging systems as they are helping to build the infrastructure to get us off our oil addiction. They already have 20 patents with another 90 pending, which gives them a great head start on their competition in this potentially large growth arena. On the defense side they make a number of small unmanned aircraft systems (UAS), which provide intelligence, surveillance and reconnaissance data to keep our troops safe. Due to their technological capabilities and robust IP portfolio, they are the sole supplier to all US Department of Defense programs for small UAS. They are the pioneer of the small UAS industry and have many new products in development (including a hummingbird styled UAS - click http://www.avinc.com/media_gallery/ and go to Nano Air Vehicle - Outdoor/Indoor Flight for a very amazing video) that will give our military the eyes and ears they need to protect our nation. The military is increasingly going with these smaller UAS’s over the much larger UAV’s, such as Northrop’s RQ-4 Global Hawk, as soldiers can take them with them out on the battlefield and get real time data of what’s on the other side of a ridge or rooftop.
I like both iRobot and AeroVironment because both have non-defense business lines that have the potential to grow substantially while their defense sensitive businesses are more geared toward recon and intelligence while keeping our troops out of harm’s way, which are currently priorities of our Defense Department. As traditional defense contractors like Lockheed Martin and General Dynamics are facing potential funding cuts, both iRobot and AeroVironment are seeing increased funding for their projects. While defense might win championships, in the investing world you have to have a good offense to succeed. iRobot and AeroVironment let you in on the very profitable defense sector while providing a lot of growth in the consumer segment as well.
latimerburned owns shares of AeroVironment and iRobot. The Motley Fool owns shares of General Dynamics, Lockheed Martin, and Northrop Grumman. Motley Fool newsletter services recommend AeroVironment and iRobot . Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. If you have questions about this post or the Fool’s blog network, click here for information.